Is life insurance needed in retirement?

"From an income protection standpoint, I don't see a need for most people to have life insurance at the point of retirement," says Brad Levin, a certified financial planner with Householder Group, a financial planning company in Encino, Calif. "If they do, they're probably going to need a policy for just a few years anyway. It would be cheaper for them to just find another term policy."

Term policyholders will likely have the option to convert their existing term insurance into a permanent one. To determine if it's worth it, check the language of your contract to find out when you can do it, how much more you'll pay in premiums, and if you'll need a medical exam to prove you're healthy.

2. Permanent insurance: a costly alternative

If you anticipate that you will need insurance for several years longer than what term insurance offers, another option is to purchase a permanent policy. It could be kept for life as long as the premiums are paid. However, the premiums are much higher than comparable term insurance rates.

The premium is higher because part of it is placed in a special savings fund known as the policy's "cash value." Over several years of payments, the cash value amount adds up and earns interest.

"Eventually, you could stop paying the premiums and the cash value should support the policy for the rest of your lifetime," says Levin. This would be one less expense in a fixed income retirement.

"On the other hand, if the policy performed well according to expectations, you as the policyholder could be able to start taking loans against the cash value of the policy on a tax-free basis." As an example, a life insurance policy with a death benefit of $100,000 might build up a cash value of $25,000 after several years. The policyholder could then borrow some of that money, effectively generating an additional stream of retirement income. It's important to note that the death benefit could be significantly reduced by such a loan, and withdrawing the entire cash value would effectively cancel the policy.

In order to keep the death benefit, the policyholder would have to repay the loan with interest. The insured would once again be making payments on the policy.

3. Understand federal estate tax rules

Permanent insurance can be a good estate planning tool for high net-worth individuals if structured properly.

"The federal estate tax currently kicks in for estates above $2 million," and life insurance payouts figure into the equation, says Graziano. "Although the death benefit from a life insurance policy is excluded from the recipient's income, unless the policy is owned in the correct manner, the proceeds will be included in the estate for tax purposes."


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